There comes a point in the life of many businesses where the thoughts of its owners will turn to expansion. By scaling up activity, the current level of profits should also be scaled-up. The question then is how best to achieve this? This insightful report published by Fashion Rider, in conjunction with law firm BrookStreet des Roches, looks at both the benefits and drawbacks of franchising and licensing giving you the information needed to get it right.
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There comes a point in the life of many businesses where the thoughts of its owners will turn to expansion. By scaling up activity, the current level of profits should also be scaled-up.
Pressures and opportunities to expand can arise in many different ways, including as a result of saturation of the local marketplace, approaches from potential customers or business partners outside your local market, or from expansion into new product or service ranges under a strong brand.
The question then is how best to achieve that expansion while:
- not taking your eye off the ball with the current business;
- taking account of any need to react swiftly to the needs of the market;
- balancing risk and potential reward; and
- recognising the skills and experience (or lack of it) of the business owners/ managers.
There are various ways of expanding a business that can be considered:
- expansion through organic growth;
- collaboration through a joint venture arrangement;
- franchising; or
- a more straightforward licensing arrangement.
Each has benefits and drawbacks, with different risk to reward profiles, so which is right for you will depend on your own particular requirements, experience and aspirations, as well as the nature of your business.
Key considerations include:
- What reward do you want?
- What financial investment can you afford to make?
- How much control do you want or need in the expanded business?
- Do you have the experience and time to learn new skills or enter new markets?
Any expansion of a business will require some degree of letting-go and needing to engage and place some reliance on others (whether employees, agents, franchisees, licensees or business partners) as any business expands, the owners cannot manage all aspects of all parts of the business at all times. One of the key questions however, is the extent to which you want to retain control over the business.
Growing the business through organic expansion is traditionally the first thought of most business owners since it maintains the owners control of the business and all profits from the expanded business are retained. The owners know the business and seek to replicate current successes in an expanded or different territory, and/or may seek to expand the focus of the business to provide new goods/ services.
However, growing in this way requires significant investment both in terms of time and money. Whether through setting up in a new location, expanding the network of distributors, agents, manufacturers etc or through an acquisition, the investment in the expansion will need to come from the owners, and the expansion is likely to take some time.
So if there is a need to react quickly to the demands of customers so as to beat the competition to satisfy demand, growth in this w ay may not be attractive, unless sufficient funds and opportunities are available to act swiftly in setting up new stores, offices and distribution networks.
Internet marketing and sales can help expansion in this way to work well, but in the main, organic growth is normally best suited to businesses looking to expand where there is no great pressure to react quickly to market requirements, and where the owners have the ability to secure appropriate investment to fund its plans.
Where a business is to be expanded into new product/ service ranges, or new territories and the current owner lacks key experience of the new markets, or know how in the creation or distribution of new products (for example), collaboration with business partners should be considered. Whether this is an informal collaboration or a more formal joint venture operation (where a new company is set up with each participant owning shares), accessing mutually beneficial know how, intellectual property, networks, equipment, facilities and/or customers can be helpful in ensuring the new aspects of the business will be effectively launched.
By working closely with a joint venture partner, the ability to react to new opportunities can be greatly enhanced both in times of reaction speed and expertise. Risk of setting up the expanded operations will be shared, but at the cost of sharing profit, depending on what each partner brings to the venture.
It is also worth remembering that the collaboration is a two-way street – while you will be tapping into the know how, experience and/or networks of your joint venture partner, you will also be sharing some of your experience, know how and contacts with them. Appropriate confidentiality provisions can be put in place in the collaboration agreement, but there may be some reluctance in sharing some information and know how, which may ultimately be difficult to stop your partner using after the end of the relationship.
Another issue that may arise in some collaborations is under which brand the collaboration will trade. Will it be your brand; theirs; co-branding or will you develop a new brand entirely? This decision could have a significant impact on whether such a collaboration will be an attractive option.
Also, careful thought needs to be given to what happens when the relationship comes to end: who will own intellectual property developed together during the collaboration? And after the split, how can each party use materials and information created, and to what extent can the parties compete with each other?
These issues can all be dealt with in the collaboration agreement but need careful thought at the outset to avoid protracted and expensive arguments at the end of the collaboration. So initial negotiations can be time-consuming, but if handled correctly joint ventures can be a good option where the skills, equipment, networks, client bases and experience will help the business to expand into new markets.
Franchising has become an increasingly popular and, according to the British Franchise Association/NatWest Franchise Survey, since 2008 the franchise sector in the UK has shown growth in terms of numbers of brands franchising, numbers of franchisees, numbers employed in franchise businesses and the overall turnover of the franchise sector. In addition, the survey reports that consistently over 90% of franchises are profitable. So, franchising clearly offers the right solution for some businesses, but it is certainly not the right option in all cases.
Franchising is a form of licensing. It is the process by which the business owner bundles up a package of rights (such as the business brand, business method and know how) and grant its franchisees the right to use those rights to operate its own business. The franchised business is a replica of the original business, run by the franchisee in accordance with the detailed system set up by the franchisor (the original business owner). Businesses have been successfully franchised in a diverse range of industries such as fast-food; pet care; accountancy; opticians and sales training.
For a business to make a good franchise, it needs to be capable of being replicated by the franchisees. So it is not so suited to businesses where aspects of the business cannot be taught. It would be hard for example to franchise out a design business where franchisees are expected to create new designs, creativity cannot really be taught, so the range of potential franchisees would by definition be very limited. The owners need to capture in an Operations Manual in sufficient detail all those elements on how the business is run so that the franchisees can replicate that method and run its own business in the appropriate conformed way. The operations manual will need to set out in detail all aspects of the business, including details of such things as: how any store will be decorated; how products will be sourced; how services will be provided; uniforms to be worn by staff members; marketing scripts; how accounts are to be kept; and standard form contracts to be used, such as terms and conditions and employee contracts.
The financial investment into setting up a franchised operation is usually relatively low (when compared with organic growth), but potential franchisors do need to understand the significant investment in time in preparation and then managing franchisee network. Franchising is not something to be gone into lightly, as the franchisor will need spend time setting up the franchise, creating the operations manual (more of which below), having the legal documentation prepared and, as is recommended, running a pilot programme. Then, once teething problems have been worked through, further franchisees of the right standard have to be recruited and then managed. So, business owners who have been used to running their own business, now have to fit overseeing the network of franchisees as well. The franchisor therefore is likely to need to delegate some responsibilities to managers.
In order to be truly effective, franchisors should view their franchisees as partners in the business. The Franchisor may retain a significant degree of control over its franchisees under the terms of the Franchise Agreement, it is still entrusting its brand and reputation to the hands of those franchisees. While focussing on numbers of franchisees being signed-up rather than taking care in selecting fewer but higher calibre candidates can result in the sale of a large number of franchises over a short period, the loss that can result in such an approach through damage to the core brand and legal and other costs in terminating franchise agreements can be significant.
The franchisees will operate their business under the franchisor’s brand and so the franchisor should make sure it has a trade mark registration for that brand (name and any logo) in place before any franchising activity occurs, covering all relevant goods and services in all relevant territories. Provided the brand itself is inherently registrable (and not purely descriptive of the business) and provided no one else already has rights to a similar brand, the process of securing a trade mark registration in the UK is relatively cheap and straightforward.
Franchising also opens up opportunities to expand overseas. It is a good way to engage with franchisees who are familiar with local customs and markets, so giving you valuable local expertise to help reach customers in new territories. It is often worth considering appointing a master franchisee in the relevant territory who is authorised to grant sub-franchises in that territory effectively acting as the franchisor’s agent in running the franchisee network in that territory. Franchising is regulated in some territories, so early thought needs to be given to ensuring that your proposed model can work within the local legal framework.
Franchising represents a relatively low-cost way of expanding your business. It should however not be gone into lightly for the above reasons, as it is recommended that a Franchising Agent or similar specialist is consulted at an early stage to discuss whether this option is a good fit for your business.
As an alternative to franchising, simpler licences can be granted to use a more limited range of rights. This might be the right to use the brand name only, certain designs or know how, for example. The relationship with the licensee is looser than is the case with a franchise, with a lesser degree of control being exerted over the activities of the licensee. The licensee business will not appear to be a clone of the original business; it will only be replicating certain aspects of it.
Since less is being licensed than under a franchise relationship, it is rare for licence fees commanded under a licensing arrangement to come anywhere near that commanded by a franchise arrangement. The size of the licence fee will depend on the value of what is being licensed, and generally, offering the complete package? of brand and the full operating system will be of greater value than one or two aspects.
Where the business brand is to be licensed, it is important for the brand owner to exert appropriate quality control over the licensee’s use of the brand to ensure the value and validity of the trade mark in question. A licensee using the brand in an inappropriate way will not only be likely to reflect badly on the original business by association, but might also lead to valuable trade mark rights being lost.
So, under a licensing arrangement, rewards for the business owner licensor are likely to be lower, but so will the costs of set-up and the amount of investment in monitoring and managing the licensees.
When the time comes to start expanding your business, you need to consider the level of risk you are prepared to accept, when balanced against potential rewards.
The various models discussed above require different levels of investment of time and money, and offer differing benefits and risks. Organic growth offers the greatest potential reward and control, but the investment and risks are high. Franchising offers a high degree of control over your franchisees, lower financial investment, but will require you to learn how to manage the network of franchisees, while also running your own core business. With licensing, there are lower set-up costs, but also lower returns and control over how your intellectual property is used. Collaboration can be an effective and relatively low-cost option to grow, but will also involve a need to work with (rather than control) your business partners and will mean you share the rewards.
Which of these methods of expansion will suit you best will depend on your risk profile, expertise, availability of funds to invest and the nature of your business. If the answer is not clear to you, then take the time to discuss the options with your trusted advisers or others who have experience of these issues – and most importantly, take the opportunity to discuss options with those in similar types of business, and see if you can learn from their experiences – you will find many who are willing to tell their stories to you. Finally, if you are interested in franchising, the British Franchise Association is also a good place to seek answers to your questions.
About Beavis Morgan
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